China and Chile: South America Is Watching

November 17, 2005

By Geri Smith China signed its first-ever free trade agreement with a non-Asian country on Nov. 18, choosing Chile, a nation that it dwarfs in geographical size, population, and economy. The pact might seem like a lopsided deal between Goliath and David, but tiny Chile is an experienced and nimble free-trader that could help China get used to the complexities of negotiating and maintaining workable trading relationships.

Their ties are likely to be watched with great interest by the rest of Latin America, whose current economic boom is due largely to China's huge appetite for iron ore, oil, and soybeans. Chinese companies have been investing in steelmaking, mining, and oil ventures in the region.

The two countries took less than a year to negotiate the accord, which immediately eliminates tariffs on 92% of Chile's exports to China and 50% of the products that China sends to Chile. The pact does not cover services. Bilateral trade, now around $6 billion annually, grew 64% last year, making China Chile's second most important trading partner after the U.S.

"For Chile, this shows how a country can dare to find its niche in the world," said President Ricardo Lagos after signing the pact at the annual Asia-Pacific Economic Cooperation meeting in Seoul.

OPEN FOR BUSINESS. Since the 1980s, Chile has become one of the most open economies in the world, with import tariffs averaging just 6% -- a figure that drops to 2% when the trade agreements it has signed with more than two dozen countries are taken into account. The country has free-trade deals with the U.S., Canada, South Korea, Mexico, and Costa Rica, and it has "economic association" agreements with a number of others, including the European Union.

An agreement with Singapore, Brunei, and New Zealand is awaiting parliamentary approval, and Chile is in talks with Japan. Chile's experienced trade negotiators can hold their own when dealing with much bigger trade partners, as they were when they hammered out the 2004 U.S. agreement.

Although Chile has a gross domestic product of just $95 billion and only 16 million inhabitants, exports have more than quadrupled since 1994, to $37 billion. Chile has managed to diversify exports -- its salmon, fruit, and wine are shipped worldwide. But its main exports are still commodities, such as copper and wood and paper products. More than half of Chile's copper exports go to China, $2.6 billion last year alone.

The long, skinny country with a 6,435-km (4,247-mile)-long Pacific coastline already sends 36% of its exports to Asia, mostly to China, Japan, and Korea, says Carlos Furche, Chile's chief trade negotiator. "More than half of the world's trade already occurs in the Asia-Pacific basin, so this agreement is very important to us," Furche told BusinessWeek in a recent interview.

WHY CHILE?Until now, Chile has mostly imported Chinese textiles, clothing, and shoes, but it is expected to buy more Chinese-made automobiles, computers, and other manufactured goods. China is likely to increase its purchases of Chilean produce, meat, and processed foods.

Why would China pick a country like Chile for its first free trade agreement outside of Asia? President Lagos ventured a guess. "Chile decided on its market-opening policy a long time ago, and we have relatively low tariffs," he said. "So it's easier for Chile to negotiate free trade agreements than it is for other countries whose economies are more protected and closed. [For those countries] the drop in tariffs is much more drastic, and that implies a more difficult internal adjustment process."

In other words, any other country that dropped its tariffs dramatically would be instantly flooded with Chinese goods, which could cause a backlash. Chilean stores already are full of products from around the world, including Korean subcompact cars and Japanese computers. Another "Made in Asia" label isn't likely to cause much of a stir.